something to watch, page-45

Danny

I think you will find that the franking can only be attached to dividend payments, and that dividends can only be paid out of current [period] profits (ref Corps Act). Yes, they are sitting on a bucket load of credits, but the ability to use these is limited to the profits. For this reason, the time value (PV) of those credits is higher if profits can be brought forward - which actually supports the argument for portfolio acquisition as opposed to simply returning shareholders funds (via a buyback or any other direct means). The big question is therefore the lag time associated with acquisition versus growing the book organically. If you were to line up "growth" in a table from least lag to most lag, portfolio aacquisition comes out on top, followed by organic growth, followed lastly by company acquisition.

The problem with the AU General Insurance acquisition (and the FMG one that followed) is the lag time and the time taken before the acquisition becomes earnings acretive. These times are no doubt taken into account (with a PV acquisition model) by CIX at the time of purchase; however they obviously do not have the same almost-immediate impact that a portfolio acquisition does. This also goes part way in explaining why portfolio valuations (transportable portfolios) are priced higher than company acquisitions - and also goes part way in explaining the relatively low price paid for AU Gen Insurance.

Getting back to the question, though, it only really makes sense to buy back stock where the reduction in capital base (i.e. reduction in capital base cost, on a WACC basis) outweights the alternative (the PV of portfolio acquisitions). In my opinion this is currently the case, particularly if you use CIX's targeted capital return (I think Kirk said it was around 15%), the current APRA & CIX capital targets (they appear to be 2:1-ish), and the multiple of earnings required for portfolio purchase (around 4 to 1 at the momemnt). Purchasing shares at under 32 cents for CIX equates to a portfolio acquisition multiple of around 3 to 1 - so is therefore cheaper than that particular alternative (indeed, you can actually purchase up to around 38 cents a share - usuing these multiples - before either alternative returns the same).

Looking at historical comments by Kirk, and looking at the NAV at the time of those comments, it appears to me as though CIX buys back shares at around a 10 to 15% discount to current NAV (regardless of NTA - which is actually inconsequential for an insurance company). By my back of an envelope estimate, CIX's current NAV is between 35 and 36 cents, so a buyback price of around 30 to 31 cents certainly makes sense.

For investors buying at these levels, it not only provides a better after tax return on investment (assuming the dividends remain constant - which I think will be the case in 2009); and also considering the franking of those dividends; but it also provides a quasi "safety net" knowing that buyback is a serious possibility at these lower levels. At that point, therefore, it almost becomes a no-brainer in terms of yield versus [price]risk.

Hope that makes sense (apols if it doesn't - Friday afternoon and my brain has gone to jelly!).

My thoughts on this one right now: at 30/31 you should buy with your ears pinned back (but, of course, that is only personal opinion).

Have a great weekend.

Best regards
Kit